After one of the worst weeks for the stock market in 2022, two factors could swing the market over the next few days and set investors up for a tumultuous fourth quarter.
The market is reeling after a broad sell-off on Friday, capping a two-week swoon that took
down 9.2% to 3693. The index is down 23% from its peak in January. Federal Reserve Chairman Jerome Powell has made it clear that the Fed’s primary concern is inflation, and the central bank is willing to impose financial pain to bring it down. Investors increasingly believe him.
This means the market is likely to swing on two main themes over the next few weeks – inflation data and any hints of what the Fed plans to do in their next few meetings. In the next week, more of these hints may be on the way.
Investors will hear from a number of Fed officials and will watch closely for language that indicates possible divisions among board members. Twelve of the 19 Fed governors and presidents are speaking in the coming week, “with virtually all appearing to potentially touch on the economic outlook or monetary policy,” note Deutsche Bank economists led by Brett Ryan.
While all Fed members appear intent on continuing to raise interest rates from the current range of 3.0%-3.25%, there are also important disagreements. Eg. The “dot plots” that track where Fed officials see economic data and interest rates in the future show that members are evenly split between those who expect Federal Funds rates to peak at 4.75% next year and those who see 4.5%. and 4.25% as top rates. These may seem like relatively small differences, but they can make a big difference in the market, given how closely investors watch rates. If Fed officials begin to lean toward a more dovish policy — raising interest rates more gradually — the market is likely to rally. But it still feels like a long shot. Deutsche Bank, for its part, expects interest rates to rise to 5%, which would likely be negative for investors.
Powell himself will appear twice in the coming week. “All three members of the Fed leadership will speak, with Powell participating in a panel on digital currencies on Tuesday and Wednesday giving welcoming remarks at a community banking conference where Governor Bowman will also appear,” Ryan wrote.
In addition, there will be some data releases that may affect the market. On Thursday, the Bureau of Economic Analysis (BEA) will release its third estimate of second-quarter gross domestic product and may also revise some older numbers. Because it is a backward-looking number, GDP often does not move the market much. But any further signs that the economy is already in recession could weigh on investor sentiment. It could also affect the Fed’s willingness to plunge the economy into a deeper recession if it becomes more clear that a recession has begun. The final estimate for second-quarter GDP was a 0.6% decline, following a 1.3% decline in the first quarter.
New data on durable goods, consumption and other economic activity will also help forecasters assess third-quarter gross domestic product. Another quarter of decline would make it more clear that the economy is already in recession – and test the Fed’s willingness to make the economic pain worse.
However, the biggest news is likely to come on Friday. The BEA will release the Personal Consumption Expenditure Price Index, a key measure of inflation that the Fed watches closely. This index rose 6.8% year over year in June – the highest level since 1982 – and moderated to 6.3% in July. The core PCE index, which strips out food and energy, rose 4.6%. Analysts expect core PCE to rise 4.7% in August.
Even with all these Fed officials scheduled to speak and key data releases, it’s unlikely there will be enough clarity in the coming week about the path of rate hikes to determine where stocks will head for the rest of the year. Goldman Sachs on Friday cut its 2022 S&P 500 target to 3,600 from 4,300 — another sign that Wall Street doesn’t see a near-term reprieve for the market.
“Over the next few weeks, long-term investors may be hesitant to buy into weakness because it doesn’t look like any economic data release or Fed numbers will convince markets that a shift down from this aggressive tightening campaign will happen anytime soon,” Oanda analyst Edward Moya wrote. “Downside targets for the S&P 500 include the 3,470 level, which could look attractive to some long-term investors.”
Write to Avi Salzman at firstname.lastname@example.org